Behold Gold's ETF

Late last month I was researching the new gold exchange-traded fund in preparation
for discussing its ramifications in the new December issue of our Zeal Intelligence
newsletter. As I gathered information on the gold ETF, I was appalled to learn
of its generally hostile reception within the gold-investor community.

When this new gold ETF went live a couple weeks ago I was ready to jump for
joy in the streets! I have literally waited years for this day and truly
believe the gold ETF will ultimately unleash massive new gold demand from traditional
stock investors. The gold ETF will be absolutely crucial in broadening gold's
investor participation so it can transition from Stage One to the vastly more
profitable Stage
Two.

Yet, after reading the Web forums and every commentary on the gold ETF I could
find in recent weeks, one would think the AntiChrist of Gold has arrived. Gold
investors are not only blaming the gold ETF for the poor
HUI leverage, never mind the indisputable fact that the HUI was struggling
for months before GLD launched, but even claiming it is a vast conspiracy
to liberate capital from gold investors and use it to actively short gold,
hanging us with our own ropes.

In order to address this troubling sinister interpretation of the gold ETF,
I would like to journey back in time to early October 2002. Way back then gold
had yet to break decisively above the $325
Maginot Line, and the ranks of contrarian gold investors were only a small
fraction of today's. Back then we looked at the dazzling prospect of a gold
ETF as a savior for gold investment demand, not a menace.

The following prose was penned by me and originally published on October 1st,
2002 in our 10/02 ZI letter for our subscribers. My goal in sharing these two-year
old thoughts publicly for the first time is to attempt to rekindle excitement about
the dawn of the gold ETF. Dear friends, years ago we anxiously awaited this
very day with awe and wonder, like kids on Christmas Eve!

The dawn of the gold ETF will be a huge blessing for this secular gold bull,
not a curse.

*** Begin 10/02 ZI Excerpt ***

Inflation in the Information Age

The world has never witnessed anything remotely like the Information Age before.
No one alive today can even start to comprehend the ultimate impact it will
have on human affairs, including the organization of governments, taxation,
and money. Finally we the tax cows can communicate directly without being censored
by the tax farmers, and the potential for revolutionary change is extraordinary.

As increasing numbers of citizens of countries around the world begin to ask
the crucial question "Why do the costs of my life's necessities keep rising
ever higher every single year?" many will hop on the Web seeking answers. Search-engine
technology will lead them to websites discussing money and inflation, and the
insatiable spark of the lust for more knowledge will be kindled.

As hardworking ordinary people educate themselves using information technology
and start to understand why their savings are worth less and less each year,
Keynes' "one in a million" who really understand will gradually grow to one
in ten. These legions of newly enlightened citizens will start telling their
friends and neighbors, who will be inspired by their spirit of Renaissance-like
knowledge and will head to the Web themselves to learn more. An info-revolution
is born!

Just as you sitting on your patio with a fully-loaded 12-gauge riot shotgun
will deter most any common thieves, citizens armed with the knowledge of inflation
will deter government theft by subterfuge. If you know your house is about
to be robbed, you can prepare ahead of time to head off the coming theft at
the pass. You stay home, turn on all the lights, and load that fearsome shotgun
up with 00 buckshot! The same principle is equally powerful with inflation.

Theft by inflation is only fully possible if you are holding the particular
fiat currency that your government issues. If you live in the States, you can
only be fully plundered of your hard work and labors if you are holding dollars.
If you live in Europe, you are only fully subject to stealth inflationary predation
of your savings if you hold euros. Yet, and here we come full circle, you can
inoculate yourself from all inflationary taxation by merely owning gold!

Just like a Venetian merchant of 700 years ago who committed his surplus labor
to gold ducats, every hardworking citizen today can do the same. Like every
other tax cow, when you hold gold you are still subject to direct taxation
by your tax farmers, but gold liberates you from the much more serious and
dangerous indirect taxation of inflation. By avoiding stealth inflationary
taxes, people are once again free to be motivated to work hard, to spend less
than they earn, to reach financial independence, and to ultimately achieve
wealth.

This concept is certainly not new to you longtime gold investors, but you
have to understand that you are the ultimate contrarians on the very vanguard
of the new revolution. You are Keynes' ones in millions! I am confident the
amazing communications technology of the young Information Age will gradually
awaken legions of normal hardworking citizens around the world to the horrific
dangers of inflation. Knowledge is power and knowledge now travels at the speed
of light for the first time in all of human history.

Gold's Oppressive Transaction Costs

As the money information revolution gathers steam, more and more people will
realize they are facing a second tax if they hold their savings in a pure fiat-paper
currency. They will discover that if they convert some of their savings into
gold today, any amount of gold will buy at least roughly the same amount of
real goods and services 20 years from now as it will today. They will give
themselves an effective large tax cut by refusing to allow their savings to
be confiscated over time by inflationary stealth taxes.

Gold is the only perfect destination on earth for capital to avoid inflation.
The natural "inflation rate" for gold is only on the order of a percent or
two a year. This means that the total world gold supply consistently grows
by only 1%-2% each year over centuries through normal mining because gold is
so incredibly scarce in the natural world. Contrast this to real estate, a
much less desirable inflation refuge, as the number of houses and amount of
livable space often explodes up by double-digit percentages every year. Only
gold has an unblemished six-millennia record of retaining its raw purchasing
power through every conceivable environment.

Newly enlightened people tired of paying the second inflation stealth tax
will not commit their entire portfolio to gold, and they shouldn't per diversification
theory. We continue to advise our private consulting clients today that everyone
should have between 5% and 20% of their total liquid assets invested in physical
gold. The coming legions of newly aware inflation refugees will probably allocate
a similar percentage of their savings to gold. Obviously this will all vastly
boost gold investment demand and lead to much higher gold prices, yielding
truly legendary gains for today's early-bird contrarians with capital already
deployed in gold.

Yet, a significant problem will arise as folks attempt to apply theory to
their reality. The coming inflation refugees will be familiar with stock trading,
but not the countless nuances of the gold markets. By definition, since these
people learned about predatory inflation and its golden inoculation on the
Web, they will be information-technology savvy.

Here at Zeal LLC, my partners and I happily use Datek as our primary brokerage
for short-term speculations like our equity-index options. It continues to
blow my mind how efficient and effective it is for trading. I can trade any
conceivable US stocks or equity options almost instantly. On an average trade,
Datek blasts out the finished trade confirmation via e-mail less than 5 seconds
after I order the trade. Often the executions occur under 1 second after my
orders are entered via the Web.

The technology is truly awe-inspiring! In addition to being fast and always
working perfectly, it is very inexpensive. Datek charges $9.99 to trade a limit
order of up to 5000 shares. If you bought 5000 shares of a $20 stock, your
effective commission would only be 1/100th of 1%! While Datek happens to be
our favorite online brokerage for speculative accounts, it is certainly not
unique. Other brokers offer similar instant trades at fantastically low commissions.

The coming wave of tech-savvy inflation refugees will be used to and demand
this level of service, performance, and cost structure from their brokerages.
They will want to think about gold and own it 5 seconds later. Delays in financial
services in the Information Age are not acceptable.

Most of you reading this letter have already liberated some of your precious
savings from inflationary predation by buying physical gold. You know the drill.
While it isn't hard to buy gold, it certainly would never be considered efficient,
instant, and inexpensive today. If one lives in a city, one has to jump in
their car, drive down to the local coin shop, hope the merchant has whatever
gold coins they want in stock, haggle on price, buy the coins, and drive all
the way home. It can take many hours just to buy gold!

Gold can also be purchased on the Net, but it is also inefficient. One has
to first find a reputable and honorable dealer, then call or use the Web to
order the gold, and then wait a week or two for it to arrive. Compared to buying
a stock online, buying gold is like getting teeth pulled. And we haven't even
discussed the looming sticker-shock yet!

On Datek you can buy $100,000 of stock for $10. In addition to Datek's trivial
commission, you pay a small fractional price over the current stock bid price,
the ask price. For argument purposes, let's assume this market-maker's spread
is $0.05 on each $20 share. At 5000 shares, this adds up to a total bid-ask
spread of $250. For a total cost of $260 you can plow $100k into an equity
of your choice.

Gold, on the other hand, has horrendously high transaction costs. Your local
coin dealer must buy his gold from a wholesaler. He probably pays 3% over the
wholesaler's cost. Hopefully the wholesaler bought near the spot price so his
cost was reasonable. The wholesaler has already paid the bid-ask spread on
gold from whomever he bought it from, so this is already included in the new
gold price.

Then your coin dealer, like any good capitalist trying to feed his family,
has to raise his gold prices high enough to pay all his overhead and still
make a profit. Let's conservatively assume another 3%. If there is a 1/2% bid/ask
spread in gold plus a 3% wholesaler markup and another 3% retailer markup,
the total transaction costs for buying physical gold are 6.6%. If you want
to shield $100k of your hard-earned savings from inflation by buying gold,
you are looking at not only spending hours to do it, but paying a huge $6600
for the privilege!

Unfortunately this example is in line with reality today. If you are aggressive
and shop around you may be able to get total transaction costs whittled down
to 3%-4% on $100k of gold, but 6.6% is probably what the average inflation
refugee will run into. At this point our whole inflation-refuge model starts
to fall apart as many new gold investors will probably throw up their hands
in disgust and walk away after experiencing sticker-shock. $260 for $100k in
stock or $6600 for $100k in gold. Yikes!

Gold in the Information Age

Interestingly, the same Information Age technology that can liberate ordinary
people from ignorance about money and inflation can vastly reduce the transaction
costs burdening gold. It seems odd at first, but bleeding-edge 21st-century
technology combined with the legendary Ancient Metal of Kings is a perfect
marriage. One wondrous innovation that already exists today that is growing
in importance is the use of digital gold as a transactional currency. I penned
an essay on digital gold earlier this year called "Gold
in the Information Age" that is available on our website.

Visionaries like James Turk (www.GoldMoney.com)
are redefining how gold is used in commerce. Digital gold enables global trade
to be easily settled in gold. Physical gold is centrally stored in secure vaults
and 100% gold-backed encrypted and irrevocable rights to this gold are the
actual digital currency changing hands over the Internet. E-Gold's slogan says
it all, "Gold itself, circulated electronically." Digital gold is probably
the biggest innovation in money since the introduction of the Venetian gold
ducat in 1284 and is likely to vastly change the landscape of global trade
in the next century. It is not the only gold innovation!

What if Gold Mated with a QQQ?

Last month in these pages I said, "[Newmont President Pierre Lassonde] launched
a bombshell and mentioned that he is working together with Chris Thompson and
the World Gold Council on a new gold instrument which could take 500 to 1000
tonnes of gold off the market annually, which would be an impressive increase
in overall demand estimated at 4000 tonnes per year."

"Coming from an unabashedly bullish gold legend running the biggest gold mining
company on earth, these comments are super exciting. It will be interesting
to see what Lassonde and Thompson come up with in a new gold instrument!" Thanks
to an astute CBS.MarketWatch.com reporter,
and our backchannel sources around the world, the veil on the WGC's new gold
project has been removed.

The WGC is working to create an exchange-traded fund (ETF) security for gold
itself! I have to admit that this announcement has made me more excited about
owning gold and gold stocks in the coming years than anything else I have recently
seen.

This seemingly obviously simple innovation, the marriage of gold with advanced
trading technology, could fundamentally alter the core balance of power in
the gold markets forever. Rather than governments and central banks having
the initiative and attempting to control the gold price, tens of millions of
individual investors and speculators worldwide could wrest control away from
socialist 20th-century dinosaur institutions! The gold world may never look
the same again if the WGC can pull this off.

Perhaps my great zeal for this revolutionary announcement can best be communicated
by a diversion into QQQ-land. Just like us, many of you are actively trading
the QQQs themselves or options on the QQQs. "QQQ" is the symbol for an ETF
that tracks the elite NASDAQ 100 stocks. While it would be extremely complicated
and take huge amounts of money and time to individually buy each stock necessary
to build and maintain a custom-designed portfolio that perfectly tracked the
NASDAQ 100, the QQQs do all the work.

An investor or speculator can easily trade a QQQ in their online brokerage
stock account just like any other stock. Commissions for trading are trivial,
as I described earlier. Since its introduction on March 10th, 1999, fatefully
exactly one year to the day before the legendary NASDAQ 2000 bubble top, the
QQQ has taken the financial world by storm. Today the "Cubes" often command
the top spot each day in terms of actual daily trading volume.

On September 27th for example, the QQQs traded 92m shares, more than any other
stock in the world. At a $21 close, this is the equivalent of almost $2b changing
hands in one day. At month's end, the NASDAQ reported that there were 734m
QQQs outstanding. The net assets in the underlying ETF trust were a staggering
$16b!

Unlike a typical mutual fund, the ETF has an extremely low expense ratio as
well, 0.2%. Owning the QQQs is far cheaper than purchasing a standard NASDAQ
100 index fund. The QQQs have become so immensely popular because they are
efficient, inexpensive, easy to trade, and they allow speculators of any size
to place bets on the NASDAQ 100.

Before the introduction of the Cubes, only futures traders could directly
play the NASDAQ 100. Futures accounts are cumbersome though. They are expensive,
demand a steep learning curve, and carry margin requirements. In addition,
many futures trades often carry the risk of unlimited losses. It is a very
risky and highly-specialized game.

The QQQs bypassed NASDAQ 100 futures and brought the power of speculation
to the people. Even though they were down 36% in 2000, 33% in 2001, and are
off 47% YTD due to the NASDAQ bust, they remain the speculation vehicle of
choice for many of the world's index traders.

Buying and Selling Gold Efficiently

Just as high transaction costs made NASDAQ 100 trading difficult for individual
speculators, gold trading is tough for small players today. Gold futures are
very risky, bear the danger of margin calls, and each contract only covers
a limited time horizon before it expires. Most ordinary folks rightfully want
nothing to do with the futures markets, shutting down this avenue of gold speculation
for them.

On the other hand, the gargantuan transaction costs of physical gold make
short-term trading of gold coins all but impossible. If the gold ETF flies,
it would solve both these problems at once and open up a vast new audience
for gold.

With a gold ETF available, one of the new wave of inflation refugees could
easily buy gold in seconds for a trivial commission using their existing brokerage
accounts. Granted, electronic gold is no substitute for physical gold in one's
own possession as the core foundation of a prudent portfolio, but ETF gold
is a great starting point for gold rookies.

Hardworking tax cows who are tired of the second indirect tax the government
tax farmers are secretly levying on them through inflation would finally have
a quick and easy means of leveling the playing field. They could buy shares
in the gold ETF as a first step and be protected from the inflationary ravaging
of the dollar. This wouldn't kill coin dealers either, as there is no substitute
for actual gold coins in one's own immediate physical control. As gold ETF
investors become more knowledgeable as time progresses, many of them will probably
augment their electronic ETF gold with actual physical-gold purchases later.

In addition to the long-term gold inflation shelter a gold ETF could provide
for everyone, it would also be the perfect vehicle for speculation. The QQQs
are so popular today not because people want to hold them for years, but because
they want to trade them! If gold itself could be traded via the ETF in an ordinary
brokerage account, the increased interest in speculating in gold could be tremendous.
In addition, just seeing the symbol of the gold ETF alone quoted everyday would
spawn great gold awareness.

The Birth of a Golden Leviathan Cometh

Just like the QQQs represent shares in actual NASDAQ 100 stocks, the gold
ETF would represent true fractional ownership of real physical gold. Although
no specifics are available yet, a gold ETF would create an enormous new channel
for physical gold demand. As investment and speculation demand for the gold
ETF rose, the trust underneath the ETF would have to buy more physical gold
in the open markets.

This gold would be stored in secure vaults with reputable companies. Each
ETF share for example, if it cost $50 would represent $50 in real gold stored
somewhere. Chris Thompson, former CEO of Gold Fields and now Chairman of the
World Gold Council, "If it's backed by the gold council and there is a big,
recognizable gold depository involved, it will be a big success."

In Australia Newmont President Pierre Lassonde recently said the gold ETF
could increase gold demand by 500-1000 tonnes annually. This number is enormous
and could fundamentally alter the gold scene as current global demand is believed
to be 4000 tonnes on fresh mined supply of 2500 tonnes.

If a 1500 metric ton annual natural gold deficit increased to 2500 tonnes
(5000 tonnes total demand), the gold price would have to soar to attain stasis
in market-clearing equilibrium again. If the gold ETF grows as large as the
QQQ trust is today, $16b would take an impressive 1531 tonnes of gold out of
circulation at $325!

Additionally, all gold ETF demand would feed a virtuous circle which spawns
even more gold demand. As the gold ETF rises in popularity, more physical gold
will be purchased by the trust. The trust will take in dollars contributed
by shareholders and spend these dollars to buy gold. Eventually, if demand
is high enough, the ETF alone selling dollars to buy gold could push the gold
price up. This will create even more demand for gold investment and speculation
worldwide!

For as long as there has been commerce and government, citizens have struggled
to protect their hard-earned savings from inflation. The combination of the
limitless resources of the Web educating tens of millions of people about money
and inflation and an efficient gold ETF could lead to an unprecedented grassroots
gold boom.

The best information we could obtain this month indicates the gold ETF could
become a reality as early as spring 2003. Gold and gold-stock investors should
get ready and strategically deploy capital ahead of time before the new wave
of popular ETF-driven gold demand descends upon the world.

*** End 10/02 ZI Excerpt ***

Hopefully revisiting the wonder and excitement inherent in the dawn of the
gold ETF back when we first heard about it will put today's doubts and fears
into proper perspective. It is natural to fear change, but this is a glorious
change that is almost certain to help the gold cause, not hurt it.

If you are interested in learning more about the new American gold ETF, GLD,
we just published a brand new December Zeal Intelligence newsletter exploring
it a couple days ago. Titled "Behold Gold's ETF 2" it is the long-awaited sequel
to the two-year-old thoughts shared above.

This current ZI letter analyzes GLD, from the mechanics behind it to how it
will interact with physical gold to how it may affect other gold-related investments
and speculations. Please subscribe
today to get the true scoop on GLD!

While some folks oddly believe GLD is some type of nefarious Machiavellian
plot to cripple our gold bull, I still feel as excited about it as a kid on
Christmas Eve! The dawn of the gold ETF is ushering in an entirely new era
in our secular gold bull and I can't wait to reap the resulting legendary profits.

If you have questions I would be more than happy to address
them through my private consulting business. Please visit www.zealllc.com/financial.htm for
more information.

Thoughts, comments, flames, letter-bombs? Fire away at zelotes@zealllc.com.
Due to my staggering and perpetually increasing e-mail load, I regret that
I am not able to respond to comments personally. I WILL read all messages though,
and really appreciate your feedback!

Mr. Hamilton, a private investor and contrarian analyst,
publishes Zeal Intelligence, an in-depth monthly strategic and tactical analysis
of markets, geopolitics, economics, finance, and investing delivered from an
explicitly pro-free market and laissez faire perspective. Please visit www.ZealLLC.com for
more information, www.zealllc.com/samples.htm for a free sample, and www.zealllc.com/subscribe.htm to
subscribe.